Ray’s Take For most people, life insurance decisions depend on two things: 1) whether anyone depends on your income to support their standard of living, and 2) whether you have enough other assets that could provide what is needed.
Life insurance can be an important tool to achieve personal goals. How much and what kind you need depends on those goals. It’s all a question of math, what you want to achieve, and what you can afford.
If the goal is to maintain the same standard of living for dependents but only for a set period of time – say, until minor children should finish college – figure out how much money that would take, adjust for inflation and an estimated capital growth rate, and that’s the amount of life insurance you need.
If the goal is to cover needs without depleting the capital your life insurance creates, that’s another, significantly higher, number. In that case, you would want your benefit level to deliver an average annual distribution of cash flow that would cover a year’s expenses. Typically, this is figured at about four or five percent. For example, if you wanted your life insurance policy to replace a $50,000 annual income adjusted for inflation, you would need at least $1 million in coverage.
You may have other assets that could be used to maintain your dependent’s lifestyle, however you may not want to see those assets liquidated, whether they’re a vacation home or less liquid farm land. Then your life insurance policy should provide funds that would protect those assets from being sold. There are a few other scenarios that can drive the insurance decision, but they should be goal driven. Your CFP or CLU can help with the analysis.
Most people don’t have unlimited resources. So it’s usually a question of balancing goals and assets. Life insurance is an effective tool for you to use, not something that’s absolute.
Dana’s Take Most people focus on the primary wage earner when determining life insurance needs. However, you may also want to consider life insurance for a spouse who earns far less or is a full-time homemaker.
While there may not be much income that needs replacing, there are sure to be extra services that would need to be purchased should this spouse pass away. These can include childcare, housekeeping, transportation and other expenses.
Depending on the age and number of minor children, those numbers could add up quickly. If you haven’t had to pay for any of those services before, you could be shocked at how high they can be.
Find out what those services cost and consider an additional life insurance policy that will cover them. While money can never replace a spouse, at least it can help reduce the uncertainty and expenses related to a tragic change in your family’s circumstances.
Ray Brandon is a certified financial planner and CEO of Brandon Financial Planning (www.brandonplanning.com). His wife, Dana, has a bachelor’s degree in finance and is a licensed clinical social worker. Contact Ray Brandon at email@example.com.